Collaborative Arrangements (Topic 808)

Targeted Improvements

The Board issued this Exposure Draft to solicit public comment on proposed changes

to Topic 808 of the FASB Accounting Standards Codification®. Individuals can submit

comments in one of three ways: using the electronic feedback form on the FASB

website, emailing comments to director@fasb.org, or sending a letter to

“Technical Director, File Reference No. 2018-240, FASB, 401 Merritt 7, PO Box 5116,

Norwalk, CT 06856-5116.”

Proposed Accounting Standards Update

Issued: April 26, 2018 Comments Due: June 11, 2018

Notice to Recipients of This Exposure Draft of a Proposed Accounting Standards Update The Board invites comments on all matters in this Exposure Draft until June 11, 2018. Interested parties may submit comments in one of three ways:

• Using the electronic feedback form available on the FASB website at Exposure Documents Open for Comment

• Emailing comments to director@fasb.org, File Reference No. 2018-240

• Sending a letter to “Technical Director, File Reference No. 2018-240, FASB, 401 Merritt 7, PO Box 5116, Norwalk, CT 06856-5116.”

All comments received are part of the FASB’s public file and are available at www.fasb.org. The FASB Accounting Standards Codification® is the source of authoritative generally accepted accounting principles (GAAP) recognized by the FASB to be applied by nongovernmental entities. An Accounting Standards Update is not authoritative; rather, it is a document that communicates how the Accounting Standards Codification is being amended. It also provides other information to help a user of GAAP understand how and why GAAP is changing and when the changes will be effective. A copy of this Exposure Draft is available at www.fasb.org.

Copyright © 2018 by Financial Accounting Foundation. All rights reserved. Permission is granted to make copies of this work provided that such copies are for personal or intraorganizational use only and are not sold or disseminated and provided further that each copy bears the following credit line: “Copyright © 2018 by Financial Accounting Foundation. All rights reserved. Used by permission.”

Proposed Accounting Standards Update

Collaborative Arrangements (Topic 808)

Targeted Improvements

April 26, 2018

Comment Deadline: June 11, 2018

CONTENTS

Page Numbers

Summary and Questions for Respondents ........................................................ 1–3 Amendments to the FASB Accounting Standards Codification® ..................... 5–19 Background Information and Basis for Conclusions .................................. …20–27 Amendments to the XBRL Taxonomy ................................................................. 28

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Summary and Questions for Respondents

Why Is the FASB Issuing This Proposed Accounting Standards Update (Update)?

A collaborative arrangement, as defined by the guidance in Topic 808, Collaborative Arrangements, is a contractual arrangement under which two or more parties actively participate in a joint operating activity and are exposed to significant risks and rewards that depend on the activity’s commercial success. Topic 808 does not provide comprehensive recognition or measurement guidance for collaborative arrangements, and the accounting for those arrangements is often based on an analogy to other accounting literature or an accounting policy election. Some entities apply revenue guidance directly or by analogy to all or a portion of their arrangements, and others apply a different accounting method as an accounting policy. Those accounting differences result in diversity in practice on how entities account for transactions on the basis of their view of the economics of the collaborative arrangement.

Although the lack of guidance for collaborative arrangements has resulted in diversity in practice for more than a decade, the issuance of Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606), raised new questions about the interaction between Topic 808 and Topic 606. Certain aspects of the amendments in Update 2014-09 have resulted in uncertainty in practice about the effect of the revenue standard on the accounting for collaborative arrangements. Specifically, stakeholders indicated that it is unclear whether Topic 606 could be applied to certain transactions in collaborative arrangements. The FASB is issuing this proposed Update to clarify the interaction between Topic 808 and Topic 606.

Who Would Be Affected by the Amendments in This Proposed Update?

The amendments in this proposed Update would affect all entities that have collaborative arrangements.

What Are the Main Provisions?

The amendments in this proposed Update would make targeted improvements to generally accepted accounting principles (GAAP) for collaborative arrangements as follows:

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1. Add unit-of-account guidance in Topic 808 to align with the guidance in Topic 606 (that is, a distinct good or service) limited to when an entity is assessing the scope of Topic 606.

2. Clarify that certain transactions between collaborative participants should be accounted for as revenue under Topic 606 when the collaborative participant is a customer in the context of the unit of account. In these situations, all of the guidance in Topic 606 should be applied, including recognition, measurement, presentation, and disclosure requirements.

3. Clarify that in a transaction that is not directly related to sales to third parties, presenting the transaction as revenue would be precluded if the collaborative participant counterparty is not a customer.

How Would the Main Provisions Differ from Current Generally Accepted Accounting Principles (GAAP) and Why Would They Be an Improvement?

The amendments in this proposed Update would provide guidance on whether certain transactions between collaborative participants should be accounted for as revenue in accordance with the guidance in Topic 606. In addition, the proposed amendments would provide more comparability in the presentation of revenue for certain transactions between collaborative participants. Before the issuance of Topic 606, stakeholders indicated that revenue from collaborative arrangements may have included (1) revenue that was recognized in accordance with Topic 605, Revenue Recognition, (2) revenue that was recognized through analogy to the guidance in Topic 605, and (3) revenue that was recognized through the application of a policy election. The proposed amendments would improve comparability by permitting revenue presentation only for transactions in collaborative arrangements not directly related to sales to third parties that are recognized in accordance with Topic 606. The Board did not discuss or change the requirements for transactions directly related to sales to third parties.

When Would the Amendments Be Effective?

The effective date will be determined after the Board considers feedback on the proposed amendments. Please see Question 6.

Questions for Respondents

The Board invites individuals and organizations to comment on all matters in this proposed Update, particularly on the issues and questions below. Comments are requested from those who agree with the proposed guidance as well as from those who do not agree. Comments are most helpful if they identify and clearly explain the issue or question to which they relate. Those who disagree with the proposed

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guidance are asked to describe their suggested alternatives, supported by specific reasoning.

Question 1: Would the amendments in this proposed Update clarify when a transaction between collaborative participants is within the scope of the revenue guidance in Topic 606? Would the proposed amendments reduce diversity in practice in this area? If not, please explain why.

Question 2: Is additional guidance necessary to determine whether a collaborative participant is a customer? If so, please provide suggestions.

Question 3: Are the proposed amendments on presentation in paragraph 808-10-45-3 operable? Would the proposed amendments reduce diversity in practice in this area?

Question 4: Would the proposed amendments on the unit of account clarify that the unit-of-account guidance in Topic 606 should be applied for determining if a transaction is within the scope of Topic 606? If not, please explain why.

Question 5: Should a reporting entity be required to provide additional recurring disclosures (that is, incremental disclosures to those required in Topic 808 and Topic 606) because of the proposed amendments? If so, what additional recurring disclosures should be required?

Question 6: Do you agree with the proposed transition requirements, including the retrospective application to the adoption date of Topic 606? If not, what transition method would be more appropriate and why?

Question 7: How much time is needed to implement the proposed amendments? Should early adoption be permitted?

Question 8: Should entities other than public business entities be provided with more time to implement the proposed amendments? If so, how much more time?

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Amendments to the FASB Accounting Standards Codification®

Summary of Proposed Amendments to the Accounting Standards Codification

1. The following table provides a summary of the proposed amendments to the Accounting Standards Codification.

Codification Section Description of Changes

Scope and Scope Exceptions (606-10-15)

• Amend the guidance to clarify that an entity’s collaborative partner is not precluded from being its customer.

Scope and Scope Exceptions (808-10-15)

• Add unit-of-account guidance in Topic 808 to align with the guidance in Topic 606 (that is, a distinct good or service) limited to when an entity is assessing the scope of Topic 606.

• Amend the guidance to clarify that certain transactions between collaborative participants should be accounted for as revenue under Topic 606 when the collaborative participant is a customer in the context of the unit of account. In those situations, all of the guidance in Topic 606 should be applied, including recognition, measurement, presentation, and disclosure requirements.

Other Presentation Matters (808-10-45)

• Amend the guidance to indicate that in a transaction that is not directly related to sales to third parties, presenting the transaction as revenue is precluded if the collaborative participant counterparty is not a customer.

Implementation Guidance and Illustrations (808-10-55)

• Includes consequential amendments from the changes above.

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Introduction

2. The Accounting Standards Codification is amended as described in paragraphs 3–7. In some cases, to put the change in context, not only are the amended paragraphs shown but also the preceding and following paragraphs. Terms from the Master Glossary are in bold type. Added text is underlined, and deleted text is struck out.

Amendments to Subtopic 606-10

3. Amend paragraph 606-10-15-3, with a link to transition paragraph 808-10-65-2, as follows:

Revenue from Contracts with Customers—Overall

Scope and Scope Exceptions

> Transactions

606-10-15-3 An entity shall apply the guidance in this Topic to a contract (other than a contract listed in paragraph 606-10-15-2) only if the counterparty to the contract is a customer. A customer is a party that has contracted with an entity to obtain goods or services that are an output of the entity’s ordinary activities in exchange for consideration. A counterparty to the contract would not be a customer if, for example, the counterparty has contracted with the entity to participate in an activity or process in which the parties to the contract share in the risks and benefits that result from the activity or process (such as developing an asset in a collaboration arrangement) rather than to obtain the output of the entity’s ordinary activities.

Amendments to Subtopic 808-10

4. Amend paragraph 808-10-15-5 and add paragraphs 808-10-15-5A through 15-5C, with a link to transition paragraph 808-10-65-2, as follows:

Collaborative Arrangements—Overall

Scope and Scope Exceptions

> Other Considerations

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808-10-15-5 This Topic does not address all recognition or measurement matters related to collaborative arrangements, for example, determining the appropriate units of accounting, the appropriate recognition requirements for a given unit of accounting, or when the recognition criteria are met.

808-10-15-5A A collaborative arrangement within the scope of this Topic may have components that are within the scope of other Topics. If a component of a collaborative arrangement is wholly or partially within the scope of Topic 606 on revenue from contracts with customers, an entity shall apply the guidance in paragraph 606-10-15-4 to determine how to separate and initially measure that component. If a component of a collaborative arrangement is not within the scope of Topic 606 but instead is wholly or partially within the scope of other Topics, an entity should follow the recognition and measurement provisions of those other Topics.

808-10-15-5B An entity shall apply Topic 606 if the other party is a customer in the context of a promised good or service (or bundle of goods or services) that is distinct within the collaborative arrangement, separated in accordance with paragraphs 606-10-25-19 through 25-22. For any distinct element within the scope of Topic 606, an entity is required to apply all the guidance in Topic 606, including the recognition, measurement, presentation, and disclosure requirements.

808-10-15-5C If transactions are not within the scope of other Topics, the recognition and measurement of those transactions shall be based on an analogy to authoritative accounting literature within other Topics or if there is no appropriate analogy, a reasonable, rational, and consistently applied accounting policy election.

5. Amend paragraph 808-10-45-3 and supersede paragraph 808-10-45-4, with a link to transition paragraph 808-10-65-2, as follows:

Other Presentation Matters

808-10-45-1 Participants in a collaborative arrangement shall report costs incurred and revenue generated from transactions with third parties (that is, parties that do not participate in the arrangement) in each entity’s respective income statement pursuant to the guidance on principal versus agent considerations in paragraphs 606-10-55-36 through 55-40. An entity shall not apply the equity method of accounting under Subtopics 323-10 and 323-30 to activities of collaborative arrangements.

808-10-45-2 For costs incurred and revenue generated from third parties, the participant in a collaborative arrangement that is deemed to be the principal for a given transaction under paragraphs 606-10-55-36 through 55-40 shall record that transaction on a gross basis in its financial statements.

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808-10-45-3 Payments between participants pursuant to a collaborative arrangement Transactions in a collaborative arrangement that are within the scope of other authoritative accounting literature in accordance with paragraph 808-10-15-5A on income statement classification shall be presented accounted for using the relevant provisions of that literature. If the transactions payments are not within the scope of other authoritative accounting literature, the income statement classification for the transactions payments shall be based on an analogy to authoritative accounting literature or if there is no appropriate analogy, a reasonable, rational, and consistently applied accounting policy election. An entity shall evaluate the income statement classification of transactions in a collaborative arrangement on the basis of the nature of the arrangement, the nature of its business operations, and the contractual terms of the arrangement. For example, if one party to an arrangement is required to make a payment to the other party to reimburse a portion of that party’s research and development cost, that portion of the net payment may be classified as research and development expense in the payor’s financial statements in accordance with Topic 730. Except as provided in paragraph 808-10-15-5B, an entity is precluded from presenting transactions in a collaborative arrangement that are not directly related to a third-party sale of either party as revenue.

808-10-45-4 Paragraph superseded by Accounting Standards Update No. 2018-XX.An entity shall evaluate the income statement classification of payments between participants pursuant to a collaborative arrangement based on the nature of the arrangement, the nature of its business operations, the contractual terms of the arrangement, and whether those payments are within the scope of other authoritative accounting literature on income statement classification. If the payments are within the scope of other authoritative accounting literature, then the entity shall apply the relevant provisions of that literature. To the extent that these payments are not within the scope of other authoritative accounting literature, the income statement classification for the payments shall be based on an analogy to authoritative accounting literature or if there is no appropriate analogy, a reasonable, rational, and consistently applied accounting policy election. For example, if one party to an arrangement is required to make a payment to the other party to reimburse a portion of that party’s research and development cost, that portion of the net payment may be classified as research and development expense in the payor’s financial statements pursuant to Topic 730.

808-10-45-5 See Section 808-10-55 for additional guidance, including Examples 1 through 4.

6. Amend paragraphs 808-10-55-1, 808-10-55-3 through 55-10, 808-10-55-12 through 55-14, and 808-10-55-17 through 55-19, with a link to transition paragraph 808-10-65-2, as follows:

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Implementation Guidance and Illustrations

> Illustrations

808-10-55-1 This Section is an integral part of the requirements of this Topic. This Section provides Examples that illustrate potential application of this Topic for transactions payments between participants in a collaborative arrangement based on the limited facts presented. The evaluations following each of the Example fact patterns are not intended to represent the only manner in which the guidance in this Topic could be applied. These illustrative Examples do not address all recognition or measurement matters related to collaborative arrangements. For arrangements, for example, the appropriate units of accounting, the appropriate recognition requirements for a given unit of accounting, account or when the recognition criteria that are met are addressed in other authoritative accounting literature. Additional facts would most likely be required in order to fully evaluate the accounting and presentation issues related to these arrangements (in other words, to evaluate the possible effect of other authoritative accounting literature).

808-10-55-2 For the purpose of the Examples in this Section, assume that all of the arrangements are collaborative arrangements within the scope of this Topic.

> Example 1: Equal Participation in Results of Research, Development, and Commercialization Arrangement, Participants Perform Different Activities

808-10-55-3 This Example illustrates the guidance in Section 808-10-45. Pharma and Biotech agree to equally participate in the results of research and development activities for a drug candidate and in the commercialization activities if and when the drug candidate is approved for sale, pursuant to a joint development and marketing agreement (a 50 percent, 50 percent arrangement). Biotech is responsible for conducting research and development activities relating to the drug candidate, and Pharma is responsible for the commercialization activities if and when the drug candidate is approved for sale. On a quarterly basis, Pharma and Biotech provide the other party financial information about the research and development activities performed by Biotech and the commercialization activities performed by Pharma under the joint development and marketing agreement. One participant is required to make a payment to the other participant for the proportionate share of the excess of the entities’ combined operating results pursuant to their joint development and marketing agreement. In the first annual period after the product launch, Biotech incurred research and development expenses of $10 million million, and Pharma had sales to third parties of $50 million million, and related manufacturing expenses of $20 million million, and marketing expenses of $10 million. Pharma owes Biotech $15 million, such that each participant realizes a $5 million net profit from the arrangement (total sales of $50

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million, less total expenses (including research and development) of $40 million, divided by 2).

808-10-55-4 Based on an evaluation of the facts and circumstances, Pharma concludes that it is the principal on the sales transactions with third parties and will present 100 percent of the sales, cost of sales, and marketing expenses in its income statement. Pharma has concluded that other authoritative accounting literature does not apply directly to these payments to Biotech, either directly or by analogy, including Topic 606 on revenue from contracts with customers, because Biotech is not a customer. Pharma also has concluded that other authoritative accounting literature does not apply by analogy, and, accordingly, its accounting policy is to evaluate the income statement classification for amounts due from or owed to other participants associated with multiple activities in a collaborative arrangement based on the nature of each separate activity. As a result, Pharma disaggregates its $15 million net payable to Biotech in accordance with the nature of the individual components of the payable and characterizes the profit sharing portion of the payable for 50 percent of the profit related to the sales as cost of sales ($10 million) and the portion of the payable to Biotech for research and development activities as research and development expense ($5 million). Pharma presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

Sales to third parties 50,000$

Cost of goods sold (including $10,000 payable to Biotech for

profit sharing) 30,000

Selling, general and administrative expense 10,000

Research and development expense (including $5,000 payable as a

reimbursement of Biotech's expenses incurred) 5,000

Net profit 5,000$

808-10-55-5 Biotech records research and development expense ($10 million) for its research and development activities. Licensing intellectual property and performing contract research and development services are part of Biotech’s ongoing major or central operations. Biotech has concluded that the research and development services to Pharma represent a distinct service provided to Pharma as a customer. Therefore, Biotech applies the guidance in Topic 606 to account for and characterize its net receivable from Pharma, including profit sharing payments, as revenue ($15 million) when recognized. Biotech has concluded that other authoritative accounting literature does not apply to these payments, either directly or by analogy, and, accordingly, its accounting policy is to characterize the portion of its net receivable from Pharma related to research and development services and the portion of the net receivable for profit sharing as revenue ($5 million and $10 million, respectively) when recognized. Biotech will not present

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sales, cost of sales, or marketing expenses related to the sales transactions with third parties because it is not the principal on those transactions.

Biotech presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

Revenues from collaborative arrangement 15,000$

Cost of goods sold -

Selling, general and administrative expense -

Research and development expense 10,000

Net profit 5,000$

808-10-55-6 This evaluation is not intended to illustrate the appropriate revenue recognition requirements for any of the transactions described in this Example or the appropriateness of the conclusions reached on determining whether and how applicable authoritative accounting literature applies directly or by analogy. Rather, those conclusions have been assumed as facts in this Example. Such an analysis would include, at a minimum, a determination of the applicable authoritative accounting literature, including whether or not the guidance in Topic 606 on revenue from contracts with customers, is applicable.

> Example 2: Equal Participation in Results of Research, Development, and Commercialization Arrangement, Participants Perform Some of the Same Activities

808-10-55-7 This Example illustrates the guidance in Section 808-10-45. Pharma and Biotech agree to equally participate in the results of research and development activities for a drug candidate and in the commercialization activities if the drug candidate is approved for sale, pursuant to a joint development and marketing agreement (a 50 percent, 50 percent arrangement). Assume that Pharma and Biotech both agree to provide resources during the research and development phase, and Pharma is responsible for the commercialization activities if the drug candidate is approved for sale. As both participants are performing research and development activities, there may be periods in which Biotech must make a payment to Pharma for its proportionate share of the research and development activities and periods in which Pharma must make payments to Biotech. On a quarterly basis, Pharma and Biotech provide financial information about the research and development activities performed by both parties and the commercialization activities performed by Pharma under the joint development and marketing agreement. One participant is required to make a payment to the other participant for a proportionate share of the excess of the parties’ combined operating results pursuant to their joint development and marketing agreement. In the first annual period after the product launch, Biotech and Pharma incurred research and development expenses of $10 million and $15 million, respectively.

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Pharma had sales to third parties of $75 million, related manufacturing expenses of $22.5 million, and marketing expenses of $20 million. As a result, Pharma owes Biotech $13.75 million, such that each participant realizes $3.75 million net profit from the arrangement (total sales of $75 million, less total expenses of $67.5 million, divided by 2).

808-10-55-8 Based on an evaluation of the facts and circumstances, Pharma concludes that it is the principal on the sales transactions with third parties and will present 100 percent of the sales, cost of sales, and marketing expenses in its income statement. Pharma has concluded that other authoritative accounting literature does not apply directly to these payments to Biotech, either directly or by analogy, including Topic 606, because Biotech is not a customer. Pharma also has concluded that other authoritative accounting literature does not apply by analogy, and, accordingly, its accounting policy is to evaluate the income statement classification for amounts due from or owed to other participants associated with multiple activities in a collaborative arrangement based on the nature of each separate activity. As a result, Pharma disaggregates the $13.75 million net payable to Biotech in accordance with the nature of the individual components of the payable and characterizes the portion of the payable related to 50 percent of the commercialization activities (sales to third parties less associated manufacturing and marketing costs) as cost of sales ($16.25 million). Pharma characterizes the portion of the net payable related to research and development activities as a reduction of its research and development expenses ($2.5 million), because performing contract research and development services is not part of its ongoing major or central operations. Pharma presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

Sales to third parties 75,000$

Cost of goods sold (including $16,250 payable to Biotech for

profit sharing) 38,750

Selling, general and administrative expense 20,000

Research and development expense (including $2,500 due from

Biotech payable as a reimbursement of Biotech's expenses incurred) 12,500

Net profit 3,750$

808-10-55-9 Biotech records research and development expense ($10 million) for its research and development activities. Biotech has concluded that Topic 606 applies to the profit sharing payments from Pharma and will characterize as revenue the portion of the net receivable from Pharma related to Pharma’s sales to third parties commercialization activities ($16.25 million) as revenue, based on the fact that licensing intellectual property is part of Biotech’s ongoing major or central operations. Biotech also considers performing research and development services to be part of its ordinary activities and is providing the output of those

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activities to Pharma as a customer in the context of the unit of account related to research and development services ongoing major or central operations. Biotech analyzes its specific facts and circumstances under the guidance on consideration payable to a customer in paragraphs 606-10-32-25 through 32-27 and determines that the portion of the net receivable that relates to a reimbursement of Pharma’s research and development costs ($2.5 million) should be characterized as a reduction of revenue. Biotech will not present sales, cost of sales, or marketing expenses related to the sales transactions with third parties because it is not the principal on those transactions. Biotech presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

Revenues from collaborative arrangement 13,750$

Cost of goods sold -

Selling, general and administrative expense -

Research and development expense 10,000

Net profit 3,750$

808-10-55-10 This evaluation is not intended to illustrate the appropriate revenue recognition requirements for any of the transactions described in this Example or the appropriateness of the conclusions reached on determining whether and how applicable authoritative accounting literature applies directly or by analogy. Rather, those conclusions have been assumed as facts in this Example. Such an analysis would include, at a minimum, a determination of the applicable authoritative accounting literature, including whether or not the guidance in Topic 606 is applicable.

> Example 3: Unequal Participation in Results of Research, Development, and Commercialization Arrangement, Participants Perform Some of the Same Activities

808-10-55-11 This Example illustrates the guidance in Section 808-10-45. Big Pharma and Little Pharma agree to jointly participate in the results of the research and development activities for a drug candidate and in the commercialization activities if and when the drug candidate is approved for sale, pursuant to a joint development and marketing agreement. Big Pharma and Little Pharma both agree to provide resources during the research and development and the commercialization activities. Little Pharma will be responsible for commercialization activities in the United States, and Big Pharma will be responsible for commercialization activities in Europe and Asia. Under the arrangement, they will share research and development costs incurred on a 50 percent, 50 percent basis. Little Pharma will retain 65 percent of the net profits from commercialization activities in the United States, and Big Pharma will retain 70 percent of the net profits from commercialization activities in Europe and Asia.

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On a quarterly basis, Big Pharma and Little Pharma provide financial information about the research and development and the commercialization activities performed by both parties under the joint development and marketing agreement, and one participant is required to make a payment to the other participant for a proportionate share of the excess of the parties’ combined operating results pursuant to their joint development and marketing agreement. The results of the first annual period of the collaborative arrangement prior to any payments between the parties were as follows (in thousands):

Little Big

Pharma Pharma Combined

Sales to third parties 120,000$ 90,000$ 210,000$

Cost of goods sold 30,000 35,000 65,000

Selling, general and administrative expense 25,000 20,000 45,000

Research and development expense 35,000 20,000 55,000

Net profit 30,000$ 15,000$ 45,000$

808-10-55-12 Based on an evaluation of the facts and circumstances, Big Pharma concludes that it is the principal on the sales transactions with third parties in Europe and Asia and will present 100 percent of the sales, cost of sales, and marketing expenses related to those efforts in its income statement. Big Pharma has concluded that other authoritative accounting literature does not apply directly to these payments to Little Pharma, either directly or by analogy, including Topic 606, because Little Pharma is not a customer. Big Pharma also has concluded that other authoritative accounting literature does not apply by analogy, and, accordingly, its accounting policy is to evaluate the income statement classification for amounts associated with each separate activity. As a result, Big Pharma disaggregates its $4.75 million net receivable from Little Pharma in accordance with the nature of the individual components of the payable and characterizes the portion of the net receivable related to 30 percent of the profit related to the sales in Europe and Asia as expenses from collaborative arrangement ($10.5 million) and characterizes the portion of the net receivable related to a reimbursement of Little Pharma’s research and development costs as research and development expenses ($7.5 million). Big Pharma concludes that the portion of the net receivable directly related to Little Pharma’s third-party sales in the United States is analogous to a royalty and therefore characterizes the $22.75 million as revenue similar to a royalty. Big Pharma also concludes that any payment from Little Pharma for research and development activities would be characterized as a reduction of its research and development costs because performing contract research and development services is not part of its ongoing major or central operations. Big Pharma presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

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Sales to third parties 90,000$

Revenues from collaborative arrangement 22,750

Cost of goods sold 35,000

Expenses from collaborative arrangement 10,500

Selling, general and administrative expense 20,000

Research and development expense (including $7,500 payable as a

reimbursement of Little Pharma's expenses incurred) 27,500

Net profit 19,750$

808-10-55-13 Little Pharma concludes that it is the principal on the sales transactions with third parties in the United States and will present 100 percent of the sales, cost of sales, and marketing expenses related to those efforts in its income statement. Little Pharma has concluded that other authoritative accounting literature does not apply directly to these payments to Big Pharma, either directly or by analogy, including Topic 606, because Big Pharma is not a customer. Little Pharma also has concluded that other authoritative accounting literature does not apply by analogy, and, accordingly, its accounting policy is to evaluate the income statement classification for payments associated with each separate activity. As a result, Little Pharma disaggregates its $4.75 million net payable to Big Pharma in accordance with the nature of the individual item and characterizes a portion of the net payable related to 35 percent of the profit related to the sales in the United States as expenses from collaborative arrangement ($22.75 million) and characterizes the portion of the net payable to Big Pharma for research and development activities as research and development expenses. Little Pharma concludes that the portion of the net payable directly related to profit sharing from Big Pharma’s third-party sales in Europe and Asia is analogous to a royalty and therefore should characterize the $10.5 million as revenue similar to a royalty. Little Pharma also concludes that any payment from Big Pharma for research and development activities will be characterized as a reduction of its research and development costs ($7.5 million) because performing contract research and development services is not part of its ongoing major or central operations. Little Pharma presents the following information in its financial statements with respect to this collaborative arrangement (in thousands):

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Sales to third parties 120,000$

Revenue from collaborative arrangement 10,500

Cost of goods sold 30,000

Expenses from collaborative arrangement 22,750

Selling, general and administrative expense 25,000

Research and development expense (including $7,500 due from

Big Pharma as a reimbursement) 27,500

Net profit 25,250$

808-10-55-14 This evaluation is not intended to illustrate the appropriate revenue recognition requirements for any of the transactions described in this Example or the appropriateness of the conclusions reached on determining whether and how applicable authoritative accounting literature applies directly or by analogy. Rather, those conclusions have been assumed as facts in this Example. Such an analysis would include, at a minimum, a determination of the applicable authoritative accounting literature, including whether or not the guidance in Topic 606 is applicable.

> Example 4: Equal Participation in Results of Production and Distribution of Major Motion Picture, Participants Perform Some of the Same Activities

808-10-55-15 This Example illustrates the guidance in Section 808-10-45. Studio A and Studio B agree to jointly participate in the production and distribution of a major motion picture. Studio A will manage the day-to-day production activities and will be responsible for distribution in the United States. Studio B will be responsible for distribution in Europe and Asia. Even though Studio A will be managing the production, the terms of the arrangement state that both studios will share equally in all production costs incurred. Further, Studio A will pay 50 percent of the net profits (that is, revenues less distribution costs) from the United States distribution to Studio B, and Studio B will pay 50 percent of the net profits from European and Asian distribution to Studio A. The studios are responsible for initially funding all distribution costs in their respective locations. For purposes of this example, no license to intellectual property has been conveyed to Studio B.

808-10-55-16 Assume that Studio A and Studio B have the same estimates of ultimate revenue and ultimate participation costs. Both studios estimate that Studio A will owe Studio B net ultimate participation costs of $45 million. Based on the individual-film-forecast-computation method in accordance with Section 926-20-35, Studio A’s current period participation cost expense (and Studio B’s current period participation income) is $7 million in Year 1 following the film’s initial release.

808-10-55-17 Based on an evaluation of the facts and circumstances, during (or at the completion of) production, Studio A records a receivable from Studio B for

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production costs and a corresponding reduction of its capitalized film costs. Studio A has determined that, considering the guidance on principal versus agent considerations in paragraphs 606-10-55-36 through 55-40, it is the principal for the revenue generated in the United States. Accordingly, it characterizes all of the gross revenue generated in the United States as revenue in its income statement and likewise records all of the associated distribution costs for distribution in the United States. Studio A concludes that other authoritative accounting literature does not apply directly, either directly or by analogy, including Topic 606, because Studio B is not a customer, regarding the income statement classification of net participation costs owed to Studio B. Studio A also concludes that other authoritative accounting literature does not apply by analogy, and, accordingly, Studio A’s accounting policy with respect to participation costs due from and to its production partners is to record net amounts due from production partners for profit shares on sales to third parties as additional revenue and net amounts due to production partners for profit shares on sales to third parties as a cost of sales. Accordingly, Studio A characterizes its Year 1 participation cost expense of $7 million as cost of sales.

808-10-55-18 During production, Studio B records amounts payable to Studio A for production costs and a corresponding amount as capitalized film costs. Studio B has determined that, after considering the guidance on principal versus agent considerations in paragraphs 606-10-55-36 through 55-40, it is the principal for the revenue generated in Europe and Asia. Accordingly, it characterizes all of the gross revenue generated in Europe and Asia as revenue in its income statement and likewise records all of the associated distribution costs for distribution in Europe and Asia. Studio B concludes that other authoritative accounting literature does not apply directly, either directly or by analogy, including Topic 606, because Studio B is not a customer, regarding the income statement classification of net ultimate participation costs due from Studio A. Studio B also concludes that other authoritative accounting literature does not apply by analogy, and, accordingly, Studio B’s accounting policy for profit sharing amounts due from and to its production partners is to record those amounts on a net basis in cost of sales. It views those amounts either as additional costs for production and distribution or as a reimbursement of such costs. Accordingly, Studio B characterizes its Year 1 participation cost income of $7 million as a reduction of cost of sales.

808-10-55-19 This evaluation is not intended to illustrate the appropriate revenue recognition requirements for any of the transactions described in this Example or the appropriateness of the conclusions reached on determining whether and how applicable authoritative accounting literature applies directly or by analogy. Rather, those conclusions have been assumed as facts in this Example. Such an analysis would include, at a minimum, a determination of the applicable authoritative accounting literature, including whether or not the guidance in Topic 606 is applicable.

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7. Add paragraph 808-10-65-2, with no link to a transition paragraph, as follows:

Transition and Open Effective Date Information

> Transition Related to Accounting Standard Update No. 2018-XX, Collaborative Arrangements (Topic 808): Targeted Improvements 808-10-65-2 The following represents the transition and effective date information related to Accounting Standards Update No. 2018-XX, Collaborative Arrangements (Topic 808): Targeted Improvements:

a. The pending content that links to this paragraph shall be effective for fiscal years beginning after [date to be inserted after exposure], and interim periods within or after those fiscal years [timing of interim period adoption to be inserted after exposure].

b. An entity shall apply the pending content that links to this paragraph retrospectively to the date of its initial application of the pending content that links to paragraph 606-10-65-1. An entity shall recognize the cumulative effect of initially applying the pending content that links to this paragraph as an adjustment to the opening balance of retained earnings of the later of the earliest annual reporting period presented and the annual reporting period that includes the date of the entity’s initial application of the pending content that links to paragraph 606-10-65-1.

c. An entity may elect to apply the pending content that links to this paragraph retrospectively either to all collaborative arrangements or only to collaborative arrangements that are not completed at the date of initial application of the pending content that links to paragraph 606-10-65-1. An entity shall disclose whether it has applied this guidance to all collaborative arrangements or only to collaborative arrangements that are not completed at the date of initial application.

d. An entity may elect to apply the practical expedient for contract modifications in paragraph 606-10-65-1(f)(4), in accordance with the requirements in paragraph 606-10-65-1(g).

e. An entity shall provide the disclosures in paragraphs 250-10-50-1 through 50-2 (with the exception of the disclosure in paragraph 250-10-50-1(b)(2)) in the period in which the entity adopts the pending content that links to this paragraph.

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The amendments in this proposed Update were approved for publication by the unanimous vote of the seven members of the Financial Accounting Standards Board:

Russell G. Golden, Chairman James L. Kroeker, Vice Chairman Christine A. Botosan Marsha L. Hunt Harold L. Monk, Jr. R. Harold Schroeder Marc A. Siegel

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Background Information and Basis for Conclusions

Introduction

BC1. The following summarizes the Board’s considerations in reaching the conclusions in this proposed Update. It includes reasons for accepting certain approaches and rejecting others. Individual Board members gave greater weight to some factors than to others.

Background Information

BC2. The guidance in Topic 808 originated from EITF Issue No. 07-1, “Accounting for Collaborative Arrangements.” Issue 07-1 defined the characteristics of a collaborative arrangement and primarily provided scope, presentation, and disclosure guidance. The EITF did not provide specific recognition and measurement guidance because of the difficulty in developing a single accounting model that could be applied to the wide range of different collaborative arrangements. Because of the limited recognition and measurement guidance in Topic 808, there is diversity in practice in how entities account for collaborative arrangements.

BC3. The issuance of FASB Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606), heightened the need for clarity on whether the guidance in Update 2014-09 applies to collaborative arrangements. In March 2015, the FASB received an agenda request asking the Board to clarify the interaction between Topic 606 and Topic 808 and to provide recognition and measurement guidance for collaborative arrangements to address certain areas of diversity. Some stakeholders raised concerns that the guidance in Update 2014-09 appears to be inconsistent with language included in the basis for conclusions of that Update.

BC4. The guidance in Topic 606 specifically excludes parts of collaborative arrangements from the scope of the revenue guidance. The revenue guidance only applies if the counterparty to the contract is a customer. The guidance also states:

A counterparty to the contract would not be a customer if, for example, the counterparty has contracted with the entity to participate in an activity or process in which the parties to the contract share in the risks and benefits that result from the activity or process (such as developing an asset in a collaboration arrangement) rather than to obtain the output of the entity’s ordinary activities. [paragraph 606-10-15-3]

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BC5. However, the basis for conclusions of Update 2014-09 explains that transactions with partners or participants in a collaborative arrangement can be within the scope of Topic 606 if the counterparty meets the definition of a customer for some or all of the terms of the arrangement. The basis for conclusions also explains that the principles in Topic 606 might be appropriate to apply to a collaborative arrangement by analogy even if the counterparty is not considered a customer, provided no other Topic applies.

BC6. The agenda request asked the Board to clarify if, and when, transactions in a collaborative arrangement were within the scope of the revenue guidance in Topic 606. In addition, the agenda request asked the Board to consider amending the guidance in Topic 808 to address certain areas of diversity within collaborative arrangements, including how an entity should determine its units of account and how to account for transactions between collaborative participants that do not qualify as revenue transactions.

BC7. The Board met on August 31, 2016 to discuss the staff’s research on the agenda request. The Board directed the staff to perform additional research and outreach to assist in defining the scope of a potential project because of a concern that a project scope limited only to arrangements conducted outside a legal entity could compound existing differences in accounting models for arrangements that may have similar characteristics but are conducted within a legal entity.

BC8. At the November 16, 2016 Board meeting, the staff presented its additional research on the structures used in collaborative arrangements to assist the Board in defining the scope of a potential project. The Board decided to add a project to its agenda and limit the project’s scope to targeted improvements that would clarify when transactions between collaborative participants should apply the revenue guidance in Topic 606. The Board decided not to expand the scope of the project to include arrangements structured within a legal entity. See paragraph BC11 for the Board’s basis for the project’s scope.

Benefits and Costs

BC9. The objective of financial reporting is to provide information that is useful to present and potential investors, creditors, donors, and other capital market participants in making rational investment, credit, and similar resource allocation decisions. However, the benefits of providing information for that purpose should justify the related costs. Present and potential investors, creditors, donors, and other users of financial information benefit from improvements in financial reporting, while the costs to implement new guidance are borne primarily by present investors. The Board’s assessment of the costs and benefits of issuing new guidance is unavoidably more qualitative than quantitative because there is no method to objectively measure the costs to implement new guidance or to quantify the benefit of improved information in financial statements.

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BC10. The Board does not anticipate that entities will incur significant costs as a result of the amendments in this proposed Update. The Board agreed that the proposed amendments would benefit users by reducing some diversity in practice by aligning the revenue scope in Topic 808 with the guidance in Topic 606 and clarifying presentation requirements. The Board believes that the proposed amendments may, in certain situations, reduce cost by clarifying guidance that various entities and accounting firms indicated is unclear. The Board concluded that the expected benefits of making the targeted improvements would justify the expected costs.

Basis for Conclusions

Scope

BC11. At various stages in developing the amendments in this proposed Update, the Board considered the project’s scope. In the pre-agenda research phase, the Board considered including both collaborative arrangements within the scope of Topic 808 and arrangements with similar economics that are structured in a separate legal entity. The Board rejected including within the scope of this project collaborative-type arrangements structured in a separate legal entity. In making that decision, the Board acknowledged the different accounting models and outcomes between transactions involving a collaborative arrangement as defined in Topic 808 and those involving a separate legal entity with similar characteristics. However, the Board decided that aligning those models would require a broader, longer term effort that would extend beyond the issues raised in the agenda request. Furthermore, Board members questioned whether the arrangements involving separate legal entities (such as joint ventures) are sufficiently similar to warrant consideration of the expansion of the scope of the collaborative arrangement guidance in Topic 808. The Board also noted the need to clarify the items in the agenda request on a timely basis given the effective date of Topic 606.

BC12. The Board decided to focus on targeted improvements to clarify when certain transactions between collaborative participants are within the scope of the revenue guidance in Topic 606. The Board also decided to limit the project’s scope to (a) the accounting for the entity receiving consideration from the other collaborative participant (that is, the party potentially recording revenue) and (b) transactions not directly related to sales to third parties. The Board did not expand the scope to include the accounting for transactions with collaborative partners related to sales to third parties because feedback from entities and accounting firms indicated that the accounting for those transactions was not challenging and was relatively consistent among entities.

BC13. The Board also considered whether to provide guidance for two additional areas that were raised in the agenda request: (a) unit of account and (b) recognition and measurement guidance for transactions not within the scope

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of the revenue guidance (that is, nonrevenue transactions). These areas also were identified in the staff’s research as areas for which the lack of guidance was resulting in diversity in practice. The Board decided to address unit-of-account guidance in the context of the scope of the revenue guidance within the amendments in this proposed Update. See paragraphs BC24–BC26 for the Board’s basis for that decision. The Board decided not to include recognition and measurement guidance for nonrevenue transactions in the proposed amendments. See paragraphs BC21–BC23 for the Board’s basis for that decision.

Clarification of the Scope of Revenue

BC14. The Board decided to include guidance in Topic 808 to address the issue raised in the agenda request about the apparent inconsistency between the scope of Topic 606 and the discussion included in the basis for conclusions of Update 2014-09. The Board concluded that certain transactions between collaborative participants that are unrelated (that is, related to developing an asset rather than selling a completed product) to third-party sales could result in revenue under Topic 606 consistent with paragraph BC55 of Update 2014-09.

BC15. Entities involved in collaborative arrangements informed the Board that in some situations a collaborative participant contracts to obtain goods or services that are the output of a collaborative participant’s ordinary activities. On the basis of that information, the Board decided that the nature of the joint operating activity and the shared risks and rewards should not preclude revenue recognition according to Topic 606 in these instances. There are many different types of collaborative arrangements, and the accounting for any collaborative arrangement depends on the specific negotiated terms. Consequently, overriding an entity’s ability to consider the specific terms of its arrangements and the nature of its ordinary activities and precluding revenue recognition broadly for collaborative arrangements could have resulted in less relevant financial reporting because the accounting may not have reflected the nature and economics of the arrangement.

BC16. In determining when transactions between collaborative participants under Topic 808 are within the scope of the revenue guidance in Topic 606, the Board did not intend to develop new or different requirements from the requirements of Topic 606. Therefore, the different alternatives the Board considered were taken from existing concepts in Topic 606, such as transfer of control and customer. The Board ultimately decided that the scope of the revenue guidance in Topic 606 should be aligned for transactions inside and outside of collaborative arrangements; that is, the revenue guidance in Topic 606 should be applied if the collaborative participant is a customer in the context of a given unit of account.

BC17. In addition, the Board clarified that for a unit of account that is within the scope of Topic 606, an entity is required to apply all of the accounting requirements in Topic 606 to that unit of account, including the recognition, measurement,

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presentation, and disclosure requirements. The Board reached that conclusion because it would be confusing to users of financial statements if transactions in a collaborative arrangement are presented as revenue but follow only certain aspects of Topic 606’s requirements. The Board did not intend to establish an exception to the revenue requirements in Topic 606 for transactions in collaborative arrangements presented as revenue.

Presentation Guidance

BC18. The Board decided to preclude an entity from presenting transactions that are not related to third-party sales as revenue when the collaborative participant does not meet the scope of the guidance in Topic 606 (that is, the other party is not a customer in the context of the unit of account). The Board decided this to further emphasize the implications of the Board’s decision to require an entity to apply all of the accounting requirements in Topic 606 and to prevent diversity in how and when transactions in collaborative arrangements are presented as revenue. At present, entities are not precluded from classifying payments received in a collaborative arrangement that are not within the scope of other Topics as revenue. Entities are permitted to classify the payments based on an analogy to other Topics, or if there is no appropriate analogy, a reasonable, rational, and consistently applied accounting policy election.

BC19. Outreach indicated that, under current GAAP, many entities analogize to the accounting for revenue under Topic 605 or Topic 606 when accounting for transactions between collaborative participants. Those entities are analogizing to those Topics either because the scope of the revenue guidance is not directly applicable or because the interaction between Topic 808 and those Topics is unclear. Because the amendments in the proposed Update would clarify the interaction between the scope of Topics 808 and 606, the Board also decided to require consistent presentation and prevent transactions from being presented as revenue that are outside the scope of Topic 606. However, the Board continues to believe that the principles in Topic 606 might be appropriate to apply to a collaborative arrangement by analogy even if the counterparty is not considered a customer, provided there is no other more relevant authoritative guidance. Therefore, an entity may still analogize to those principles as long as the entity does not present the transaction as revenue.

BC20. Because the scope of the amendments in this proposed Update excludes transactions directly related to sales to third parties, the Board did not change the revenue presentation requirements for transactions directly related to sales to third parties, such as (a) sales of “production inputs” or other items to a collaborative partner that are eventually sold to a third party or (b) profit share receivables from collaborative partners for third-party sales.

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Nonrevenue Model

BC21. The agenda request asked that the Board consider providing recognition and measurement guidance for nonrevenue transactions between collaborative participants. The Board also considered providing a nonrevenue accounting model because its decisions could result in more transactions that would need recognition and measurement guidance that does not exist in Topic 808. Ultimately, the Board decided not to propose a nonrevenue accounting model for collaborative arrangements for the reasons discussed below. However, to address the concerns that the amendments in this proposed Update potentially could lead to more transactions without recognition and measurement guidance in Topic 808, the Board decided to continue to permit an entity to apply the revenue guidance in Topic 606 by analogy or as a policy election, without requiring the entity to apply all of the guidance in Topic 606, as long as it does not present the transaction as revenue.

BC22. The staff explored a potential nonrevenue model that was flexible to allow entities to reflect the underlying economics of the collaborative arrangement. That model intentionally left substantial room for judgment to allow for different accounting outcomes for a wide range of arrangements that had significant differences in economics. Under that model, once a collaborative participant determined that an identified unit of account was outside the scope of Topic 606, the collaborative participant would recognize a transaction as either a reduction of cost or other income depending on whether the nature of the underlying transaction was related to a specific and identifiable cost incurred in accordance with the collaboration agreement (using concepts from Topic 606).

BC23. In December 2017, the FASB hosted two workshops for preparers and auditors to provide feedback on the operability of the staff’s potential nonrevenue model. Because of the flexibility of the proposed model, certain participants raised concerns that the model would be difficult to apply and that it may not solve many of the challenges raised about recognition. Specifically, certain participants indicated that the potential model would not remove the difficulties in determining the underlying nature of an activity, allocating consideration to interrelated activities, and determining the recognition period for a unit of account. Overall, the feedback received during the workshops made it clear that if a nonrevenue model is developed, practice desires more prescriptive guidance; however, there were strong opposing views on what that guidance should be. Because of the diverse views and various issues raised, the Board decided that it would be difficult to develop a “one-size-fits-all” accounting model for the various types of collaborative arrangements, particularly within the context of this “targeted improvements” project. Therefore, the Board decided not to provide recognition and measurement guidance for nonrevenue transactions in a collaborative arrangement.

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Unit of Account

BC24. Both in the agenda request and in other outreach, many preparers indicated that identifying the unit of account in a collaborative arrangement, especially during the development phase, was challenging because of the ongoing nature of the arrangement. Some entities view all transactions between the collaborative participants as a single unit of account because of their continuing obligation to participate. Others view each transaction between collaborative participants, such as an upfront payment or cost reimbursement payment, as a separate unit of account.

BC25. Because determining the unit of account is critical to the accounting in a collaborative arrangement, the Board decided to provide unit-of-account guidance in Topic 808 and align that guidance with the guidance in Topic 606 for distinct goods or services. However, because the Board decided not to include recognition and measurement guidance for nonrevenue transactions in a collaborative arrangement, the decision to align the unit-of-account guidance to the guidance in Topic 606 for distinct goods or services is limited to the context of assessing the scope of the revenue guidance. Within that context of determining whether a component of an arrangement is within the scope of Topic 606, the Board decided to include unit-of-account guidance that is consistent with the unit-of-account guidance in Topic 606 for distinct goods or services. This decision ultimately aligns with the accounting model in Topic 808, which is a residual model similar to Topic 606, indicating that an entity should first look to other guidance for separation.

BC26. The Board rejected developing unit-of-account guidance that is specific to collaborative arrangements because that guidance would have applied to all of Topic 808, which would be inconsistent with the Board’s decision not to address a nonrevenue model in this project. By explicitly providing unit-of-account guidance in the context of assessing the scope of the revenue guidance and aligning the unit-of-account guidance to Topic 606, the Board also sought to eliminate potential future diversity in determining units of account when assessing whether an arrangement is partially within the scope of Topic 606 or other Topics.

Disclosures

BC27. The Board concluded that no additional recurring disclosures are necessary because of the project’s scope and because the current disclosures in Topics 606 and 808 are robust. The targeted improvements in this proposed Update clarify when a transaction is within the scope of the guidance in Topic 606 and also clarify that if a transaction is within the scope of Topic 606, then an entity is required to apply all of the provisions of Topic 606, including the disclosure requirements.

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Effective Date and Transition

BC28. The Board will determine the effective date after it considers stakeholders’ feedback on the amendments in this proposed Update. At that time, the Board will consider whether to permit early adoption of the amendments.

BC29. The Board decided to require a retrospective transition approach whereby an entity would be required to apply the amendments in this proposed Update retrospectively as of the entity’s adoption date of Topic 606 because the proposed amendments relate directly to Topic 606. Therefore, aligning the financial reporting is the most meaningful to users of financial statements. In addition, the Board decided to allow the same practical expedients provided in the modified retrospective transition method in paragraph 606-10-65-1(d)(2), which are described in paragraph 606-10-65-1(h). An uncompleted collaborative arrangement in the context of these expedients as written in paragraph 808-10-65-2(c) refers to an arrangement that has one or more unperformed units of account.

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Amendments to the XBRL Taxonomy

The provisions of this Exposure Draft, if finalized as proposed, would require improvements to the U.S. GAAP Financial Reporting Taxonomy (Taxonomy). We welcome comments on these proposed improvements to the Taxonomy through Proposed Taxonomy Improvements provided at www.fasb.org. After the FASB has completed its deliberations and issued a final Accounting Standards Update, the proposed improvements to the Taxonomy will be finalized as part of the annual release process.